International dividend policy

This page considers international dividend policy. It may be worth looking at the main page on dividend policy first, which can be found here.

When deciding how much cash to distribute to shareholders, company directors must keep in mind that the firm's objective is to maximise shareholder value.

The dividend payout policy should be based on investor preferences for cash dividends now or capital gains in future from enhanced share value resultant from re-investment into projects with a positive NPV.

Many types of multinational company shareholder (for example, institutions such as pension funds and insurance companies) rely on dividends to meet current expenses and any instability in dividends would seriously affect them.

An additional factor for multinationals is that they have more than one dividend policy to consider:

• Dividends to external shareholders.
• Dividends between group companies, facilitating the movement of profits and funds within the group.

Alternative dividend policies used by MNCs

Probably the most common policy adopted by multinationals for external shareholders is a variant on stable dividend policy. Most companies go for a stable, but rising, dividend per share:

• Dividends lag behind earnings, but are maintained even when earnings fall below the dividend level, as happens when production is lost for several months during a major industrial dispute. This was referred to as a 'ratchet' pattern of dividends.
• This policy has the advantage of not signalling 'bad news' to investors. Also if the increases in dividend per share are not too large it should not seriously upset the firm's clientele of investors by disturbing their tax position.

A policy of a constant payout ratio is seldom used by multinationals because of the tremendous fluctuations in dividend per share that it could bring:

• Many firms, however, might work towards a long-run target payout percentage smoothing out the peaks and troughs each year.
• If sufficiently smoothed the pattern would be not unlike the ratchet pattern demonstrated above.

The residual approach to dividends contains a lot of financial common sense:

• If positive NPV projects are available, they should be adopted, otherwise funds should be returned to shareholders.
• This avoids the unnecessary transaction costs involved in paying shareholders a dividend and then asking for funds from the same shareholders (via a rights issue) to fund a new project.
• The major problem with the residual approach to dividends is that it can lead to large fluctuations in dividends, which could signal bad news to investors.

Dividend capacity and free cash flow to equity for multinational companies

As for any company, dividend capacity is a major determinant of dividend policy for multinationals. Key factors include:

The additional factor for multinationals is remittance 'blocking'.

If, once a foreign direct investment has taken place, the government of the host country imposes a restriction on the amount of profit that can be returned to the parent company, this is known as a 'block on the remittance of dividends':

• Often done through the imposition of strict exchange controls.
• Limits the amount of centrally remitted funds available to pay dividends to parent company shareholders (i.e. restricts dividend capacity).

• Increasing transfer prices paid by the foreign subsidiary to the parent company 
• Lending the equivalent of the dividend to the parent company.
• Making payments to the parent company in the form of royalties, payments for patents, and/or management fees and charges.
• Charging the subsidiary company additional head office overheads.
• Parallel loans (currency swaps), whereby the foreign subsidiary lends cash to the subsidiary of another a company requiring funds in the foreign country. In return the parent company would receive the loan of an equivalent amount of cash in the home country from the other subsidiary's parent company.

The government of the foreign country might try to prevent many of these measures being used.

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